QSBS — Section 1202 Capital Gains Exclusion
A tax provision that allows qualifying founders and early investors to potentially exclude qualifying gain from federal capital gains tax on up to $15 million of profit when they sell their qualifying company — if the right conditions are met before the sale.
When you sell a business, you pay capital gains tax on the profit. At the combined federal long-term capital gains rate plus the Net Investment Income Tax (NIIT), high-income taxpayers pay 23.8% on capital gains. On a $12 million gain, that is a $2.856 million check to the IRS.
Section 1202 of the tax code says: if you were an original shareholder of a qualifying C corporation, and you held the stock for at least five years, you may pay zero federal income tax on up to $15 million of that gain. Not a reduced rate. Not a deduction. Zero tax on $15 million of profit from the sale of your company.
This is not a loophole — Congress created this provision specifically to encourage investment in small businesses. The law has been expanded multiple times, most recently in the One Big Beautiful Bill Act signed July 4, 2025.
Requirement 1: C corporation structure. The company must be a C corporation — not an S corporation, not an LLC, not a partnership. Many small businesses are S corporations because of the pass-through tax treatment. To qualify for QSBS, those businesses would need to convert to a C corporation, which starts the holding period clock. S corporations, LLCs, and partnerships do not qualify, period.
Requirement 2: Gross assets under $75 million. At the time the stock was originally issued — not at the time of sale — the corporation's gross assets must not have exceeded $75 million. This test looks at the original issuance, not the company's current valuation. A company worth $50 million today could still qualify if its gross assets were under $75 million when the founding shares were issued.
Requirement 3: Qualifying business. The corporation must be engaged in a qualified trade or business. The law specifically excludes professional service businesses — law firms, accounting firms, health practices, consulting, financial services, and similar businesses. Technology companies, manufacturers, retailers, wholesalers, and most other industries qualify. If your business is primarily a service business, QSBS likely does not apply.
Requirement 4: Holding period. Under the updated OBBBA rules: 50% exclusion after 3 years, 75% exclusion after 4 years, and 100% exclusion after 5 years. The holding period is calculated from the original stock issuance date — or from the date of conversion to a C corporation if you converted from another entity type. This analysis must happen before any sale process begins. It cannot be done retroactively.
Each shareholder has their own $15 million exclusion — it is not a company-level cap. If you have already gifted stock to your spouse, children, or irrevocable trusts, each recipient has their own $15 million exclusion for their shares. A founder who gifted stock to a SLAT, to children, and to a dynasty trust before the sale could potentially exclude $45 million or more of gain across all the holders of the originally issued stock.
This gifting must happen while the shares are still qualifying QSBS and before any sale is imminent. The planning must happen years before the exit, not in the days before closing.
- Up to 100% exclusion of federal capital gains on up to $15 million of gain per issuer — for qualifying shareholders who have held for 5+ years. This is the largest single exit tax benefit available.
- Each shareholder has their own $15M exclusion — gifting shares to family members or trusts before the sale can multiply the available exclusion across multiple holders.
- No federal alternative minimum tax preference for QSBS gains — the exclusion is clean. Some prior QSBS rules created an AMT preference item; under current law this is not an issue for most taxpayers.
- Tiered exclusion for shorter holds: 50% after 3 years, 75% after 4 years — even a partial exclusion represents a significant tax reduction on a large exit.
- Multiple companies: if you have QSBS in several qualifying companies, each one has its own $15M exclusion cap. QSBS in Company A and Company B are analyzed independently.
- C corporation structure required — the entity must be a C corp at original issuance. If your business is an S corp or LLC, converting starts the holding period clock, but you lose all the benefits of pass-through taxation until the exit.
- State tax treatment varies — California does not conform to the federal QSBS exclusion. If you live in California, you pay state capital gains tax on the full gain even if the federal gain is fully excluded. Several other states also do not conform. We analyze your specific state situation as part of the planning.
- The analysis must happen before any sale agreement is signed — QSBS eligibility cannot be established retroactively. If you call us after the LOI is signed to ask whether your gain qualifies, it is too late to fix any disqualifying issues.
- Redemptions can disqualify shares — if the corporation repurchased significant stock from any shareholder within 1 to 2 years before your acquisition of shares, those shares may not qualify as QSBS. This requires careful review of corporate history.
- Secondary market shares don't qualify — only original issue stock qualifies. If you purchased shares from a prior shareholder rather than directly from the company, those shares are not QSBS.
Confirm C corporation structure at founding or convert now
QSBS eligibility begins at original stock issuance to the founding shareholders. If your company was formed as a C corporation and you received your shares at founding, the holding period has been running since inception. If your company is an S corporation or LLC and you want QSBS eligibility going forward, we analyze whether a conversion to C corporation makes sense — understanding that the 5-year holding period begins from the conversion date, not the original founding.
Shurek analyzes — corporate attorney executes conversion if neededEligibility analysis — before any sale process begins
We review the company's corporate history in detail: gross assets at original issuance, business activity classification, the capitalization table history (any redemptions that could taint QSBS eligibility), and the precise holding period dates for each shareholder. This analysis must be completed and any issues identified before the company engages an investment banker, signs an NDA with a potential buyer, or takes any step that could constitute the beginning of a sale process.
Shurek — critical to do this earlyPre-sale stock gifting strategy
If the QSBS analysis confirms eligibility and the exclusion amount would benefit from multiplication, we model the impact of gifting shares to family members, SLATs, dynasty trusts, or other qualifying holders before the sale. Each recipient gets their own $15M exclusion. Gifted shares carry over the donor's holding period — so a share held for 4 years by the donor and then gifted immediately qualifies for the 75% exclusion in the recipient's hands. This gifting must be completed before any binding sale commitment.
Shurek models — estate attorney drafts any trust instruments — done well before LOIPre-sale coordination with M&A counsel
We communicate the QSBS structure to the M&A attorney handling the transaction. The purchase agreement must be structured so that the qualifying shares are sold in a way that preserves QSBS treatment — for example, if the deal is structured as a merger rather than a stock sale, the tax treatment may differ. We confirm that the deal structure does not inadvertently break QSBS eligibility.
Shurek and M&A attorney coordinate — before deal documents are draftedClaim the exclusion on the tax return
The year of the sale, the gain is reported on Form 8949 with the specific QSBS exclusion code. The excluded amount is calculated and shown as a separate line item. Supporting documentation — the original stock issuance documentation, the capitalization table history, the corporate formation documents confirming C corporation status — is maintained in your file as examination support.
Shurek — filed with your Form 1040 in the year of sale| Form | Name | When Due | What It Does and Why It Matters |
|---|---|---|---|
| 8949 | Sales and Other Dispositions of Capital Assets | Year of sale — with your Form 1040 | Reports the stock sale with the QSBS exclusion. The sale is listed with the gross proceeds and cost basis, and then a specific adjustment code (typically "Q") is used to exclude the qualifying gain. The excluded amount does not appear in your taxable income. This is one of the most important forms to prepare correctly — errors here can trigger examination of the entire exclusion. |
| Schedule D | Capital Gains and Losses | Year of sale — with your Form 1040 | Summarizes all capital transactions including the QSBS exclusion. The overall capital gain picture for the year — including the QSBS excluded gain — appears here. If the gain exceeds $15M and some is not excluded, the non-excluded portion is taxable capital gain reported here. |
| 709 | Gift Tax Return | Year of any stock gifts — before the sale | If shares are gifted to family members or trusts to multiply the exclusion, a gift tax return documents each gift. The holding period carryover is confirmed, and the shares are identified as qualifying QSBS in the gift documentation. Filed in the year of the gift, not the year of the sale. |
| No ongoing filings | While holding the stock | N/A | QSBS requires no annual reporting while you hold the stock. The only obligation is maintaining the documentation of original issuance — corporate resolution, stock certificate or cap table entry, and any subsequent transfer documentation. These must be available if the exclusion is ever examined. |
All QSBS eligibility analysis — business activity review, gross asset test confirmation, holding period calculation, redemption history review. Pre-sale gifting strategy modeling. Coordination with M&A counsel on deal structure. Claiming the exclusion on the tax return with proper documentation support.
Entity conversion from S corp or LLC to C corporation if needed. Stock issuance documentation confirming the original qualifying shares. Any trust instruments needed for pre-sale gifting of shares. Coordination on deal structure to ensure it preserves QSBS treatment.
Call us before engaging an investment banker or signing any sale-related document. Maintain your corporate records consistently. If you contemplate any corporate transaction — a secondary sale of shares, a financing round that changes the cap table, a restructuring — loop us in before it closes so we can confirm QSBS eligibility is preserved.
QSBS eligibility is built over years — and destroyed in an instant by a missed deadline or an uninformed transaction. Here is every milestone that matters from founding to exit.
C Corp Structure Confirmed — Holding Period Begins
The QSBS holding period starts at original stock issuance. For founding shareholders, this is the day the corporation issues shares. For S corp converts, this is the conversion date. We document this date permanently and calendar every subsequent milestone. This is the single most important date in the QSBS timeline.
83(b) Election — File Immediately
If restricted stock is granted with a vesting schedule, the 83(b) election must be filed within 30 days. This starts the QSBS holding period at the grant date (not vesting). For founders receiving restricted stock at incorporation, this is one of the first filings we make. Missing this window may eliminate the election's benefits.
50% Exclusion Threshold Reached
After three years from original issuance, qualifying shareholders are eligible for a 50% exclusion on capital gains at sale — up to $7.5M of gain excluded. We notify you when this threshold passes and begin modeling exit scenarios at the 50% exclusion level.
75% Exclusion Threshold Reached
Four years from original issuance: 75% exclusion available, up to $11.25M of gain excluded. If an exit is being contemplated in the next 12 months, we begin detailed QSBS documentation and coordination with M&A counsel.
100% Exclusion — FULL QSBS BENEFIT AVAILABLE
Five years from original issuance: 100% exclusion, up to $15M of gain excluded from federal income tax. On a qualifying exit with $12M of gain, this means zero federal capital gains tax. We notify you at this milestone and confirm all documentation is in order for an exit that captures the full exclusion.
Pre-Sale Analysis and Gifting Window
This is the last opportunity to address any QSBS eligibility issues and to gift shares to family members or trusts to multiply the exclusion. Once a letter of intent is signed, the IRS can characterize any subsequent transfers as anticipatory assignments of income. Pre-sale QSBS coordination must happen before any binding sale commitment.
Form 8949 with QSBS Exclusion Code
Filed with your Form 1040 in the year of the sale. The exclusion is claimed on Form 8949 with the appropriate code. Supporting documentation — original issuance records, corporate history, holding period documentation — is maintained in your file and available for any IRS examination.